Housing Review – South African Property in the Fourth Quarter 2010

SUMMARY - 4th QUARTER 2010

• Real growth in the South African economy slowed down to a seasonally adjusted annualised rate of 3,2% in the second quarter of 2010, from 4,6% in the first quarter. Real economic growth is forecast at 3% this year.
• Household finances continued to improve further in the second quarter. Debt levels, however, remain high, while real income and consumption growth slowed down up to mid-2010. Household mortgage advances growth picked up further in the third quarter after bottoming in late 2009.
• After rising markedly in the first half of the year, nominal and real house price growth slowed down in the third quarter of the year, driven by base effects as well as recent economic developments.
• The average price of a house in the affordable category increased by a nominal 3,2% year-on-year (y/y) to a level of R301 500 in the third quarter of 2010, with prices declining by 0,3% y/y in real terms.
• In the middle segment, house price growth averaged a nominal 5,4% y/y in the third quarter of 2010, bringing the average price to a level of R1 021 500 in the quarter. Real price growth of 1,8% y/y was recorded in the third quarter. On a quarter-on-quarter basis, price deflation occurred in the third quarter.
• The average price of homes in the luxury segment was up by a nominal 3,1% y/y in the third quarter to a reach level of about R4,5 million. After adjustment for inflation, the average real value of luxury houses was down by 0,5% y/y in the third quarter of the year.
• At geographical level house prices increased further on a year-on-year basis in the third quarter of 2010, but were down on a quarter-on-quarter basis in both nominal and real terms in most regions.
• The affordability of housing improved in the first half of 2010 as a result of developments with regard to interest rates, household income and house prices during this period. This is according to the latest trends in the ratios of house prices and mortgage repayments to household disposable income.
• After middle-segment house price growth of a nominal 11% y/y was recorded in the first half of 2010, it started to slow down from the middle of the year and was significantly lower at 5,4% y/y in the third quarter. The slowdown house price growth in the middle segment was related to the base effect of a recovery in price growth from mid-2009 as well as recent developments on the economic front.
• • Nominal house price growth of about 7% is expected for the full year, with 2011 price growth to remain low. Real house price growth in the rest of 2010 and in 2011 will depend on nominal price trends as well as consumer price inflation.

OVERVIEW

The economy

The South African economy expanded further in the second quarter of 2010, but growth moderated somewhat compared with the first quarter of the year. Real gross domestic product (GDP) increased at a seasonally adjusted annualised rate of 3,2% quarter-on-quarter (q/q) in the second quarter, down from 4,6% q/q in the preceding quarter.

The lower rate of economic growth in the second quarter can be attributed to a significant decline in real production in the primary sector, especially mining (-20,8% q/q), while growth in the real value added by the secondary sector slowed down across all of its subsectors. The manufacturing sector recorded lower real growth of 6,9% q/q in the second quarter compared with a robust 8,4% q/q in the first quarter of the year.

Growth in the services sector of the economy accelerated to a real 4% q/q in the second quarter from 2,7% q/q in the first quarter. Higher growth in production was noticeable in all subsectors of the secondary sector in the second quarter, mainly as a result of increased levels of activity related to the Soccer World Cup in mid-2010.

The household sector

Household finances showed some further gradual improvement in the second quarter of 2010 on the back of lower inflation and stable interest rates. Employment conditions, however, remained tight in the first half of the year.

Household disposable income increased by a real annualised rate of 4,8% q/q in the second quarter of the year, which was somewhat lower than the 5,1% q/q registered in the first quarter. This development contributed to real consumption expenditure by households recording slower growth of 4,8% q/q in the second quarter from 5,7% q/q in the first quarter.

Household credit extension, comprising instalment sales credit, leasing finance, mortgage advances, credit card debt and other loans and advances, showed growth of 5,6% year-on-year (y/y) in the first eight months of 2010, after reaching a lower turning point of 2,6% y/y in late 2009. This is a reflection of the gradual improvement in households’ financial position on the back of the economic recovery and banks’ lending rates declining to their lowest level in three decades.

The ratio of household debt to disposable income was only marginally lower at 78,2% in the second quarter of 2010 from 78,7% in the first quarter. The slightly lower second-quarter debt ratio was the net result of household debt increasing by 1,4% q/q, whereas nominal household disposable income increased by 2% q/q in the quarter.

In view of the lower debt ratio and a somewhat lower average prime interest rate in the second quarter of the year compared with the first quarter after rates were cut by 50 basis points in March, the cost of servicing household debt as a percentage of disposable income was down to 7,8% in the second quarter from 8,1% in the first quarter.

The ratio of net household saving to disposable income was at a level of -0,2% in the second quarter of 2010. As a result of this situation with regard to saving, the household sector has technically no surplus funds available to access in times of financial difficulty. Net household saving is based on the level of gross saving, adjusted for depreciation write-offs on the value of fixed assets held by households, such as residential buildings.

Against the background of the abovementioned developments in respect of household finances, the sector’s net wealth (the total value of tangible and financial assets less liabilities such as mortgage and other debt) was at a level of 366,5% of disposable income in the second quarter of 2010. This percentage was on a rising trend between early 2003 and mid-2007 on the back of rising house prices and share prices during this period. The global financial crisis, spilling over to South Africa, caused share prices to decline sharply, with the growth in the value of residential property slowing down significantly and moving into negative territory in the first half of 2009. These developments had an adverse impact on the net wealth of households, which dropped to around 319% of disposable income in the first half of last year.

The residential property market and mortgage finance

Real residential fixed capital formation contracted by 4,9% y/y in the second quarter of 2010, slowing down further from a year-on-year rate of -5,8% in the first quarter and a low of -9,8% y/y in the first quarter of 2009. The continued contraction in residential capital formation, albeit at a slower pace, is evident of trends in residential building activity, as measured by plans approved for new housing and the construction of new housing in the first half 2010 compared with a year ago.

After rising markedly in the first half of the year, both nominal and real year-on-year house price growth slowed down in the third quarter of 2010, largely as a result of the base effect of a recovery in price growth from mid-2009 and recent developments on the economic front (a slowing economy, also affected by strike action in various sectors in the third quarter; continued tight employment conditions; lower secondquarter real household income growth; a still high household debt ratio; a much slower pace of interest rate cuts compared with 2009; and consumer confidence remaining flat in the first three quarters of the year).

The value of outstanding mortgage balances in the household sector, largely related to residential property, improved to 5,5% y/y in the first eight months of 2010 after bottoming at 3,6% y/y in late 2009. This steady increase in the rate of household mortgage advances growth is a reflection of the gradual improvement in households’ financial position, as discussed above. The lagged effect of lower interest rates has positively affected household mortgage advances growth in recent times, with the September rate cut expected to provide some further support to the residential property market and the demand for mortgage finance over the short term.

In the second quarter of 2010 the ratio of outstanding household mortgage debt to disposable income was slightly lower at 47,4% (47,8% in the first quarter). This was the net result of growth in household mortgage debt (1,2% q/q) and nominal disposable income (2% q/q) in the second quarter. Households’ mortgage debt remained relatively stable at a level of just below 61% of total debt over the past few quarters up to mid-2010.

The cost of servicing household mortgage debt as a percentage of disposable income declined to 4,7% in the second quarter of 2010 from 4,9% in the preceding quarter, and is at its lowest level since mid-2006. This was due to the abovementioned trends in growth of household mortgage debt and disposable income, while the mortgage rate was on average somewhat lower in the second quarter compared with the first quarter.

HOUSE PRICE TRENDS

Nominal year-on-year house price growth, especially in the middle-segment of the market, was lower in the third quarter of 2010 compared with the first and second quarters. In real terms price growth also tapered off, despite a further slowdown in consumer price inflation. The trends in house price growth are based on the value of houses for which mortgage finance was approved by Absa.

Affordable housing

The average nominal value of affordable houses (houses of 40m²-79m², priced at up to R430 000) increased by 3,2% y/y to about R301 500 in the third quarter of 2010, after rising by the same percentage in the second quarter. In real terms the average value of affordable houses dropped by 0,3% y/y in the third quarter of the year after declining by 1,3% y/y in the second quarter.

Middle-segment housing

In the category of middle-segment housing (houses of 80m²-400m², priced at up to R3,1 million) year-on-year price growth slowed down to 5,4% in the third quarter of 2010 from 11,7% in the second quarter. This brought the average nominal value of a house in this segment of the market to around R1 021 500 in the third quarter. The real value of middle-segment housing increased by 1,8% y/y in the third quarter of the year, down from 6,9% y/y in the second quarter.

Both nominal and real price growth was lower in the three middle-segment categories in the third quarter of 2010 compared with the second quarter:

Small houses (80m²-140m²):

• Second quarter: nominal 23,8% y/y and real 18,5% y/y.

• Third quarter: nominal 20,9% y/y and real 16,7% y/y.

Medium-sized houses (141m²-220m²):

• Second quarter: nominal 6,3% y/y and real 1,7% y/y.

• Third quarter: nominal 4,9% y/y and real 1,3% y/y.

Large houses (221m²-400m²):

• Second quarter: nominal 5,5% y/y and real 1% y/y.

• Third quarter: nominal 1,6% y/y and real -1,9% y/y.

Luxury housing

In the luxury segment (houses valued at above R3,1 million up to R11,5 million) the average nominal value of homes was up by 3,1% y/y to about R4,5 million in the third quarter of 2010 after declining by 0,4% y/y in the second quarter. After adjustment for the effect of inflation, the average real value of luxury houses was 0,5% y/y down in the third quarter after dropping by 4,7% y/y in the second quarter of the year.

Regional house prices

In nominal and real terms house prices in the middle segment of the market increased in most regions on a year-on-year basis in the third quarter of 2010. However, on a quarterly basis prices were down in most areas in nominal and real terms, indicating that the market slowed down over a wide front in terms of price growth in recent months on the back of the economic developments discussed above.

At a provincial level nominal house price growth varied between 3,3% y/y in Gauteng and 12,3% y/y in the Free State in the third quarter.

In the major metropolitan areas trends in nominal house prices ranged from a decline of 2,3% y/y on the East Rand in Gauteng to still strong growth of 20% y/y in Bloemfontein in the Free State in the third quarter of the year.

Along the coast house prices increased by a nominal 5,4% y/y in the third quarter of 2010, after rising by 7,7% y/y in the preceding quarter. This is an indication that recent economic developments also had an impact on the coastal market, which is to a large extent influenced by trends in property investment. The average real value houses in the country’s coastal regions increased by 1,8% y/y in the third quarter, down from an increase of 2,9% y/y recorded in the second quarter.

Although affected by national economic trends and developments, the performance of the residential property market at geographical level, i.e. the provinces, metropolitan areas, the coast and rural regions, is also much dependent on regional and area-specific factors and developments. These may include infrastructurerelated aspects; growth in economic activity and the sophistication of economic development; socio-economic conditions; investor focus; location; and the relative size of the property market in the region.

BUILDING COSTS AND NEW AND EXISTING HOUSE PRICE TRENDS

The cost of building a new house in the middle segment of the market increased by a nominal 4,6% y/y in the third quarter of 2010 (7,6% y/y in the second quarter). Against this background the average value of a new house increased by a nominal 13,4% y/y to R1 438 300 in the third quarter of the year (16% y/y in the second quarter), which translated into a real increase of 9,5% y/y (11% y/y in the preceding quarter).

The average value of an existing house increased by a nominal 5,9% y/y to a level of about R1 013 600 in the third quarter of 2010 (12,3% y/y in the second quarter). In real terms this came to an increase of 2,3% y/y in the third quarter (7,5% y/y in the second quarter).

As a result of the abovementioned price trends, it was around R424 700, or 29,5%, cheaper to buy an existing house than to have a new one built in the third quarter of 2010.

LAND VALUES

The average nominal value of land for new housing increased by 17,4% y/y to an average of about R545 400 in the third quarter of 2010 after rising by 13,3% y/y in the second quarter. In real terms land values increased by 13,3% y/y in the third quarter (up by 8,4% y/y in the preceding quarter).

In the coastal regions, however, land values for new housing declined further in the third quarter of the year, recording a nominal drop of 16,5% y/y and a real decline of 19,4% y/y in the quarter. This brought the average nominal value of a coastal stand to a level of about R379 600 in the third quarter.

MORTGAGE FINANCE

After being cut by a further 50 basis points in September this year, commercial banks’ variable mortgage interest rate is currently 9,5%, which is at its lowest level since mid-1974. In view of the cumulative 600 basis points worth of rate cuts since late 2008, monthly mortgage repayments are in general around 31% lower compared with December 2008, when the mortgage rate was at a level of 15,5%.

The impact of changes in the mortgage interest rate is reflected in the tables at the back of the report, presenting monthly mortgage repayments for various loan amounts at various interest rates, as well as mortgage loan amounts based on various fixed monthly repayments at various interest rates. These calculations are based on a 20-year repayment term.

AFFORDABILITY OF HOUSING

The affordability of housing improved in the first half of 2010 as a result of developments with regard to interest rates, household income and house prices during this period. This is according to the latest trends in the ratios of house prices and mortgage repayments to household disposable income (see graph on the affordability of housing).

The ratio of house prices to disposable income was slightly down in the second quarter of the year compared with the first quarter, which was the net result of growth in house prices (0,6% q/q) and nominal disposable income (2% q/q) in the second quarter.

The ratio of mortgage repayments to household disposable income was lower in the second quarter of 2010 compared with the preceding quarter. This was the net result of the abovementioned trends in nominal house prices and household disposable income in the second quarter, while the mortgage interest rate was on average slightly lower in the quarter compared with the first quarter.

A downward/upward trend in the abovementioned two affordability ratios implies that house prices and mortgage repayments are rising at a slower/faster pace than household disposable income. The result is that housing has in effect become more/less affordable.

OUTLOOK

Real economic growth of around 3% is forecast for 2010, expected to rise to just below 4% in 2011. South Africa’s economic performance in the rest of the year and in 2011 will to a large extent depend on global economic developments.

Inflation is forecast to reach a lower turning point in the near future and to increase gradually during the course of 2011. It is expected that interest rates will be cut once more over the short term, based on rand exchange rate movements and prospects for the economic cycle and inflation, but rates are forecast to remain unchanged for most of next year.

After middle-segment house price growth of a nominal 11% y/y was recorded in the first half of 2010, it started to slow down from the middle of the year and was significantly lower at 5,4% y/y in the third quarter. The slowdown in house price growth in the middle segment was related to the base effect of a recovery in price growth from mid-2009. However, prices declined by 2,6% q/q in the third quarter as a result of developments on the economic front.

Based on the abovementioned trends in house prices up to the third quarter of the year, average nominal price growth of around 7% y/y is forecast for 2010, reflecting the view that the declining trend is set to continue towards the end of the year. Against this background nominal house price growth for 2011 is expected to remain low. Real price growth for 2010 and 2011 will depend on nominal price trends as well as the average consumer price inflation rate for this year and next year.

Courtesy: Jacques du Toit Senior Economist ABSA Bank

Disclaimer:

The information in this publication is derived from sources which are regarded as accurate and reliable, is of a general nature only, does not constitute advice and may not be applicable to all circumstances. Detailed advice should be obtained in individual cases. No responsibility for any error, omission or loss sustained by any person acting or refraining from acting as a result of this publication is accepted by Absa Group Limited and/or the authors of the material.